Boom and bust cycles play out in the waxing and waning of demandsupply gaps, capacity increments, global trade, interest rates and technological revolution. But in India, these cycles are often led by the yet to be exterminated command-and-control regime. The latest victim of this perversity is the Indian cement industry. A few days ago, the industry knelt in supplication to the government and promised that it will not increase prices for a year, even if input costs rise. Huh? Industry captains riding a demand (and price) boom like no other were promising to hold the priceline!
The story goes back a few weeks, to this year's Budget. The finance minister increased excise duty by 50% on cement priced at more than Rs 190 per 50 kg bag to Rs 30 per bag. Unfazed, cement manufacturers passed on the excise increase to consumers. After which the commerce minister hurriedly convened a meeting with industry satraps, rapping them on the knuckles.
It isn’t about sacrificing profits. At Rs 240 a bag, cement is still finding buyers. But cement doesn’t seem a business anymore. It’s now a controlled commodity. That has led to the mass derating; cement stocks are down 20-30%.
The key question for investors is whether this represents an opportunity to cherry pick bargains in the cement sector, or is it a signal to exit? I’d stick my neck out and say it’s time to buy, albeit carefully, and perhaps wait on the sidelines for a final bloodletting that brings cement stocks to even more attractive levels.
India’s cement story is not likely to peter out in 2008-9, as estimates would have us believe. Cement-intensive spends comprising civil infrastructure, real estate and heavy industry are happening at a significantly higher rate than ever before. If the cement industry exceeds rollout deadlines for fresh capacity (as it has often done in the past) and if coal prices are in check, there is ample scope for cement players to earn approximately similar margins as today and play the volume game thus increasing returns for their shareholders.
Given the inherently risky nature of a contrarian call such as this, one should stick to sector leaders or very high-pedigree players of relatively smaller size. Among the leaders, the natural candidates would be Grasim and Gujarat Ambuja. Both have world class managements, and the latter is now owned by Holcim. Popular research estimates put Grasim’s EV per ton at $83 for 2008-9, while Ambuja checks in costlier at about $120. Compared to the replacement cost of around $100 per tonne, these valuations look only moderately attractive. Jaiprakash Industries is planning to add capacity over the next three years and also offers a diversified business mix, while Shree is a cost leader with growing capacities in the lucrative north Indian market.
Among the relatively smaller players, Mysore Cement stands out on sheer promise and pedigree. It has been acquired by Heidelberg and is in the throes of a massive clean-up of its balance sheet via one time write-offs. At Rs 42, this stock has an EV of just around $75 per tonne, on its current balance sheet composition. That’s cheap, anywhere in the world.
If you missed out on India's cement story, this could be a second chance. Thank Messrs Chidambaram and Kamal Nath for it.
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